May 12, 2022

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Good Thursday to you. Can you guess what percent of US adults own stock? a. 36%, b. 56%, c. 76%. Follow the wave 🌊 below for the answer.

Let's get right to the finance topics for today:

How inflation impacts the stock market
Preparing for a (potential) recession
The future of blockchain technologies

INVESTING

How Inflation Impacts The Stock Market

We kind of invited inflation over for dinner when we lowered rates to the floor and injected copious amounts of stimulus into the economy over the last couple years. Problem is, it's overstaying its transitory welcome. We’ve already had dessert and talked for hours, but it still just won't take the hint.

Even if inflation is hardly noticeable on small consumer staples right now, its presence is felt much heavier in the equities market, a place where the future is the present, and emotion or fear often take over. It drives the stock market crazy in numerous ways, but there are a few main ones.

Profit margins: When inflation goes up, so do costs, and when costs rise, profit margins fall. That is, of course, unless you raise prices to counteract that movement, and most companies will have to eventually. The difference is in which types of companies can afford to do so. Businesses that provide essential services, or luxury products to the wealthy, can afford to raise their prices, and may even be more profitable due to inflation. Yet those companies in the consumer discretionary sector often find that increasing their prices too much leads to declining sales, leaving them stranded between higher inflation and lower margins.
Growth companies: In times of unusually high inflation though, the Fed often raises interest rates to counteract it. Reduced purchasing power would compel companies to lower their prices. This makes borrowing money more expensive, and weighs on a lot of startups and growth companies that depend on borrowing boatloads of cash to get off the ground. These stocks are often hit the hardest during times of inflation, because even if the future seems promising, investors are scared at the moment.
Harder to value stocks: When we have predictable, sustainable levels of inflation, it’s relatively simple to calculate the future expected value of your money, but not so much when we’re seeing the numbers we have now. The same is true of the markets, because even a 50% ROI in five years is now able to be called into question. If inflation remained at 8%, that return would effectively be reduced to 2%. With heightened inflation and without knowing when it will finally let up, it’s hard to say how valuable equities are anymore.

Growth vs. Value Investing

Investing Basics

7 mins

ECONOMY & MARKET OUTLOOK

Preparing For A (Potential) Recession

A lot of economics is very hard to predict, if not impossible, but recessions actually aren’t all that hard to spot. We knew we’d see a heightened level of risk when it was time to lay off the fiscal aid once the pandemic waned, and that time has now come.

Signs and symptoms

The yield curve: We’ve already gotten the classic inverted yield curve, which is when short-term treasuries are paying higher interest than longer-term ones, signaling heightened near-term uncertainty. The inverted yield curve has accurately predicted every single recession we’ve had since 1955, so it’s a fairly reliable barometer. However ☝️, while an inverted yield curve has preceded every recession, it doesn’t always lead to one.
The GDP: We’ve been anticipating the CPI reports every month for a while now, but last month a quarterly GDP report snuck up on us and showed an annualized decline of 1.4%. A recession is loosely defined as having back-to-back quarters of declining GDP, so we’re halfway there.
The markets: Bear markets often precede a recession as investors brace for and find themselves fearful of potential economic headwinds in the future. Whether that’s a self-fulfilling prophecy or not isn’t something we can control, but we can observe the facts, and the fact is that we’ve been exactly there in 2022.
Rising rates: When interest rates rise too quickly to combat inflation, this can have a tsunami-like impact on the overall economy, potentially resulting in a recession. With the Fed just raising rates at their highest clip in 22 years, simply be aware.

How to prepare

💳 Re-evaluate your spending strategy. The latest US inflation figures are in and they look as expected: still high. Despite that though, consumer credit card spending is on the rise. Now is a great time to zoom into what you’re spending on and how it's been trending to consider where you might want to cut back or re-allocate.

🏠 Consider real estate if you’re thinking long-term. By raising rates, the Fed is looking to cool the red-hot real estate market. Some people are jumping at the opportunity to buy to lock in mortgage rates before they climb higher, while others don’t want to risk taking on debt on already sky-high prices only to see home prices possibly decline. If you’re looking to buy a home and not planning to own it for long, you run a higher risk of losing money on it.

🚀 Don’t shy away from equities. Berkshire Hathaway has been going shopping during a moment where seemingly everyone else is fearful, and it might be a good idea to do the same. Most bonds won’t outrun inflation like equities are likely to in the long run, and markets are usually resilient once a recession ends too.

🔗 Here's a related lesson on this topic:

About Recessions

Investing Basics

6 mins

CRYPTOCURRENCY

The Future of Blockchain Technologies

Just 70 years ago, almost all loans were essentially underwritten and based on the character assessment of the borrower and their financial situation. Fast forward to today, we have this thing called a credit score that gets us approved or denied in seconds.

Everything evolves, and the finance industry is no different. Likely one of the most important pieces of that evolution going forward is blockchain technology, and its broad array of applications within the world of finance.

What is blockchain, again?

Data: A blockchain is, as you might’ve guessed, a chain of blocks. Not just any blocks though, blockchains contain and represent a usually decentralized database full of useful and important information. What makes this data storage method unique is the blocks themselves, which is a unique way of structuring data relative to more traditional methods. Blocks have certain limits on their storage capacity that, once filled, are then added to the chain, forming essentially an irreversible record of data.

Decentralization: The purpose or goal of a blockchain is to decentralize the data, cut out the middle-man, and eliminate the need for a trusted authority or third party to oversee the data, its management, and distribution. The goal here is to increase trust, reduce bureaucracy, corruption, and increase efficiency and reliability.

Blockchain in the future of finance

Blockchain technology has been brought to the world’s attention mostly by way of finance, namely Bitcoin, DeFi, and crypto at large. And although it has a myriad of broad uses across industries, it’ll likely play an even larger role in finance for years to come.

But how?

Smart contracts: A smart contract is a contractual agreement with certain parameters that, if met, instruct the blockchain to do something. If X occurs, then do Y. If smart contracts can find a home in the jobs economy, (and they’re already starting to) we could see an important progression in the ways we work and how we get paid, all while reducing the need for extra interactions and bureaucracy.
Better securitization: Securitization is simple. You take a whole and break it up into parts, selling it to those who want a piece. It started with stocks, then we got fractional shares, then we figured out how to fractionalize real estate, and now we have things like NFTs, real estate in the metaverse, and more. Ultimately, blockchain technology will allow us to expand on this foundational piece of finance even further and more securely by keeping strong records, high-level security, efficiency, no-ambiguity contracts, and no middle-man.
Using blockchains for transfers: When you send money internationally, it takes a while, and it even takes a couple of days to transfer from bank to bank domestically. Blockchain technology can reduce this settlement and processing time to near zero. Banks have the opportunity to now liaise with stablecoins, or even resort to creating their own digital coins (e.g. JPMorgan’s JPM coin) if they have the means and can properly secure them.
General infrastructure: Banks are now more than ever realizing the need to catch up, and that their reliance on legacy technology and archaic policies and data processes leave them not only more vulnerable, but frustrates their customers too. Financial institutions across the board will have a growing opportunity to use blockchain technologies in a number of ways to improve themselves over the coming decades, or risk being left out.

💡 To better understand all of this, it's also worth digging into Bitcoin, the first application of blockchain technology:

Bitcoin Deep Dive (Part 1)

6 mins

🔥 CORPORATE CORNER

Today's Movers & Shakers

Carvana (+31.5%), the online used car retailer, saw shares pop after months of Wall Street downgrades; shares are still down 84% YTD
Bumble (+23.7%), the dating app operator, saw revenues and paying users increase for the first quarter
Tapestry (+16.2%), parent company of luxury brands Coach, Kate Spade and Stuart Weitzman, as their Q3 earnings beat analysts’ estimates; revenues were also up 13% YoY
Bitcoin (-21.5%) to $29,281 over the last 7 days
Ethereum (-29.8%) to $1,937 over the last 7 days

This commentary is as of 10:00 am PDT.

🌊 BY THE WAY

Answer: 56% of Americans report they own stock, according to Gallup. That's in line with the average 55% recorded in both 2019 and 2020, and the average of 55% Gallup has measured since 2009 (Gallup)
💸 ICYMI. Inflation hit 8.3% in April compared to last year, showing signs of leveling off (NBC)
🤖 Robots are the future. That’s why Jack in the Box is partnering with Miso Robotics in a new pilot program with Miso's AI-driven and autonomous kitchen assistants to maximize efficiency and customer service. Miso is disrupting a $73 billion industry! Invest in the future of food service today.
💰 Household debt is the heirloom that appreciates (Finny)
Finny lesson of the day. With credit card spending on the rise and people generally looking to re-evaluate their spending and expenses with inflation still high, here's a lesson for those who need a refresher on 💳 basics:

Credit Card Fundamentals

Debt Management

8 mins

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The Gist is Finny's twice a week (Tues & Thurs) newsletter covering personal finance & investing insights and money trends. Finny does not offer investment and stock advice or endorsements. The Gist content team: Austin Payne, Othmane Zizi, Chihee Kim.

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